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Oracleâs PeopleSoft Offer Faces Doubt, But Bid Could Rise

July 2003

Oracle’s PeopleSoft Offer Faces Doubt, But Bid Could Rise

By Mark Boslet Monday 7 July 2003Dow Jones News Service

PALO ALTO, Calif. (Dow Jones)--PeopleSoft Inc. (PSFT) stock remains about 8% below the $19.50 a share offer Oracle Inc. (ORCL) made last month, a sign that Wall Street is skeptical the takeout deal will take place.

However, many observers say the database maker could afford to pay more for its California rival and indeed may inflate the $6.3 billion bid a second time. Yet several hurdles, including an incomplete federal antitrust review, will likely keep a financial cap on the offer at least for now.

The assessment by analysts, shareholders and investment bankers comes as software maker PeopleSoft appears to have strengthened its defenses against the unrequited deal. Many speculated Oracle may wait until learning whether federal antitrust regulators clear the combination before raising its price tag.

An analysts' meeting Oracle will hold at its Redwood Shores, Calif., headquarters on Wednesday may offer clues about its determination and strategy. Until then, a fair amount of uncertainty has fallen over Wall Street, which let PeopleSoft shares close Monday at $17.99, or 7.7% below the Oracle offer.

Some say the J.D. Edwards merger could prove the undoing of Oracle's bid because of that company's reliance on technology from Oracle-competitor International Business Machines Corp. (IBM). Many J.D. Edwards customers use IBM's WebSphere application server software, its DB2 database and run its AS/400, or iSeries computers.

Even Oracle is circumspect. The company can't speculate what will happen, but has been consistent all along, says spokeswoman Jennifer Glass. "If PeopleSoft acquires J.D. Edwards, that will require a further assessment of the situation."

However, analysts believe Oracle has the flexibility to offer more money for PeopleSoft - and perhaps J.D. Edwards - if it wants. "I think they will," says Robert Stimson, managing director at Banc of America Securities. PeopleSoft executives have predicted a merger with J.D. Edwards will bring the combined company earnings of 84 cents to 92 cents a share in 2004.

Putting a 25-times earnings-to-stock-price multiple on 90 cents generates a share price of $22.50, says Stimson. That would make a $21.50 a share all-cash offer from Oracle something the PeopleSoft board would probably have to review.

Stimson doesn't own Oracle or PeopleSoft shares and is not aware of any investing banking business Banc of America Securities is conducting with Oracle.

He says Oracle would be justified sweetening its offer because of the business it could gain. Many observers believe Oracle wants to expand its applications business by converting PeopleSoft's customers to its applications products. Stimson argues the real jewel might lie elsewhere.

With the acquisition, Oracle will have the ability to expand the use of its database among PeopleSoft customers. Oracle Chief Executive Larry Ellison "will have a bigger share of the database market," he says, and with it the chance to sell more add-on products for improved storage and management.

Oracle's offer "is already a fairly full price," counters Ken Marlin, managing partner at Marlin & Associates. It provides a 40% premium over where PeopleSoft share would trade without it. Even still, the company has the capacity to raise it to $21 or $22 a share. It won't need to go higher, he says.

Marlin's calculation is built on two major assumptions. First, Oracle will need to find $300 million in annual cost savings from a PeopleSoft acquisition and $400 million if it buys J.D. Edwards, too. With PeopleSoft's annual sales, marketing and administrative expenses totaling $630 million, the savings are not impossible to find.

The second assumption is that Oracle keeps most, if not all, of PeopleSoft's and J.D. Edwards' customers. Marlin says holding onto these customers - and keeping them from running into the arms of rival SAP AG (SAP) - shouldn't be difficult. Customers "may not like what is happening," he says, but "the switching costs are too high."

However, shareholders are not convinced Oracle will make a move until learning more from antitrust regulators, who last week extended a review of the transaction several months by requesting more information. Oracle is not getting cold feet over the up to $354 million in money-back refunds PeopleSoft promised its software customers during the second quarter.

The refunds can be claimed if an acquirer of PeopleSoft discontinues the software or prematurely halts technical support for it. But Oracle has said it would continue support after an acquisition.

The greater worry is over J.D. Edwards. Because of the company's IBM focus, buying J.D. Edwards "doesn't make any sense to me at all," says Yankee Group senior analyst Michael Dominy. "It would seem very unattractive."

Dominy says the smartest thing for Oracle to do would be to spin off the company. Even still, a price of $22 a share is the upper edge of what Oracle could pay and still not have the merger cut into profits, says Roger Siboni, chief executive of software maker E.piphany Inc. (EPNY). In this market, "we're getting pretty close to what might start being dilutive for Oracle."

Siboni argues an Oracle-PeopleSoft combination would bring on an industry consolidation that could create a bifurcated industry. "I think you've going to see a big company-niche company separation begin to take place," he says. Big companies would have full suites of software, and boutique companies of $100 million to $300 million in size will exist because they can offer a specialized product in a particular area, he said.

Oracle would need aggressive cost cutting to reduce redundancies and face the more complex task of switching customers over time from PeopleSoft products to Oracle's.